Trex Company, Inc. (NYSE:TREX) Q1 2024 Earnings Call Transcript

Trex Company, Inc. (NYSE:TREX) Q1 2024 Earnings Call Transcript May 9, 2024

Trex Company, Inc. beats earnings expectations. Reported EPS is $0.819, expectations were $0.72. Trex Company, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good evening, and welcome to the Trex Company, Inc. First Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Casey Kotary. Please go ahead.

Casey Kotary: Thank you, everyone, for joining us today. With us on the call are Bryan Fairbanks, President and Chief Executive Officer; and Brenda Lovcik, Senior Vice President and Chief Financial Officer. Joining Bryan and Brenda is Amy Fernandez, Senior Vice President, Chief Legal Officer and Secretary, as well as other members of Trex management. The company issued a press release today after market close containing financial results for the first quarter of 2024. This release is available on the company’s website. This conference call is also being webcast and will be available at the Investor Relations page of the company’s website for 30 days. I will now turn the call over to Amy Fernandez. Amy?

Amy Fernandez: Thank you, Casey. Before we begin, let me remind everyone that statements on this call regarding the company’s expected future performance and conditions constitute forward-looking statements within the meaning of federal securities laws. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. For a discussion of such risks and uncertainties, please see our most recent Form 10-K and Form 10-Q, as well as our 1933 and other 1934 Act filings with the SEC. Additionally, non-GAAP financial measures will be referenced in this call. A reconciliation of these measures to the comparable GAAP financial measure can be found in our earnings press release at trex.com.

The company expressly disclaims any obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events, or otherwise. With that introduction, I will turn the call over to Bryan Fairbanks.

Bryan Fairbanks: Thank you, Amy, and good evening. Thank you all for participating in today’s call to review our first quarter performance and discuss our business outlook. This was an outstanding quarter for Trex, reflecting our leadership position in the growing outdoor living category. Within the quarter, we demonstrated excellent execution across our organization, along with strong channel demand for Trex branded decking and railing products. First quarter sales came in above the high end of our guidance range. The shift of our Early Buy season added approximately $75 million in incremental sales in the first quarter as our channel partners restocked ahead of the season after ending 2023 with historically low inventories.

Beyond a normalized seasonal inventory build, we saw strong growth and contribution from our recent premium decking product launches: Trex Transcend Lineage and Trex Signature. These additions to our portfolio have continued to gain traction, helping to drive double digit sell through of Trex premium products in the first quarter. Trex’s channel partner inventories ending the quarter are at appropriate levels to service consumer demand during the busy decking season. Feedback from our contractor network indicates they have strong backlogs with projects trending towards larger deck sizes and premium products and average lead times ranging from six to eight weeks while many of our TrexPro Platinum’s have lead times through late summer. These indicators were shared consistently when our leadership team gathered with over 300 of our largest TrexPro Platinum contractors during the month of April.

These data points, along with other internal data, support our view that business conditions, especially at the high end of the market, continue to be favorable and reflect a return to more normal seasonality. In the first quarter, we continued to see mid single digit increases in sell through of our total product portfolio, which has been designed to offer products at every price point and now includes a broader price range of railing options to complement our complete line of decking. There are numerous demand drivers that have and will continue to support Trex’s growth. First, the average age of housing stock continues to increase, yielding record growth in homes between 20 and 40 years old over the next five years. These homes are prime candidates for remodeling projects.

In many cases, these homes will also have decks. We estimate that approximately half of the 50 million to 60 million decks in existence are either at or beyond the age for replacement. Next, with higher mortgage rates and the rising cost of housing, consumers remain in their homes longer and are prioritizing investments in their outdoor spaces that enable them to gain fuller enjoyment of their existing footprint. One of the most affordable ways to add square footage to your home is to add a deck. Trex is well positioned to take advantage of the trend of creating functional spaces beyond the walls of the home with outdoor living areas complete with couches, fireplaces, TVs and cooking areas. Lastly, we continue to see the opportunity to convert more wood decks to Trex composite decking and railing.

We estimate this conversion to be occurring at a long-term average of 150 to 200 basis points per year. With a comprehensive product portfolio, a robust branding and marketing program, the industry’s strongest dealer and distribution network, and a leading share of home center shelf space and sales, Trex is well positioned to benefit from that wood conversion. Our financial outperformance in the first quarter was primarily related to exceptional gross margin expansion. The combination of high utilization with continued production efficiencies and fast return cost saving projects led to a 45% gross margin for the quarter. While we do not expect to replicate this margin level in subsequent quarters this year, it is a strong indicator of our ability to leverage our existing capacity in tandem with volume growth.

To support and ensure that channel inventories are appropriate to serve the decking and railing season, Trex has been running at high capacity utilization. This utilization will decrease as the year progresses. During the quarter, we implemented new cost saving projects as planned, while also developing new projects for our future cost saving pipeline. One notable project is the development of a new plastics recycling and processing technologies that will allow Trex to process contaminated materials more efficiently and allow for the use of a larger variety of recycled materials. Additionally, we continue to increase our investments in branding and other sales and marketing programs. These programs are designed to engage with homeowners seeking to update their outdoor living spaces with the broadest array of decking, railing and other outdoor living products at price points to serve a large range of household income levels.

As noted in prior calls and our Investor Day, new product development is a key priority and a future growth driver for Trex as we seek to expand our share of the addressable market. Following the launch of Select T-Rail last year, our high performance value priced system, we added two modern specialty premium railing options to our portfolio. The Trek Signature X-series railing, available in both cable and frameless glass infills. The positive response to these product announcements now translate into orders as these new high end railing products begin shipping this quarter. Additionally, we began taking orders for Trex branded decking fasteners in the first quarter for shipment in the second quarter. Trex has long sold our market leading Hideaway hidden fastening system and now we’re broadly expanding into traditional decking and fascia fastening solutions with the launch of color matched screws and plugs, specially engineered bits, depth setters and clips, all which are designed to deliver a clean, cohesive aesthetic while making installation easier and more efficient for contractors and DIY installers alike.

This is a great example of penetrating an adjacent market where we are directly related to our core products of decking and railing while further strengthening our leadership position and creating competitive advantages for our channel partners. During the quarter, we received many accolades from independent third parties. Trex was recognized as the overall supplier of choice from Builders FirstSource by winning the Morris Tolly National Supplier of the Year award. Other awards recognize our commitment to sustainability, innovation and corporate responsibility and naming Trex America’s most trusted outdoor decking for the fourth consecutive year, which highlights the enduring connection between consumers and the Trex brand. All of us at Trex are honored and humbled to receive these awards and I want to thank all our Trex team members as well as our channel partners and our suppliers for their contributions to these important recognitions.

Now I’ll turn the call over to our Senior Vice President and CFO, Brenda Lovcik, for a financial review. Brenda?

Brenda Lovcik: Thank you, Bryan, and good evening everyone. I am pleased to review our exceptionally strong first quarter 2024 results, which represent an excellent start to the year and support our expectations for above market growth in 2024. In the first quarter, net sales were $374 million, 57% above the $239 million of net sales reported in last year’s first quarter. This growth was driven in part by the shift of our Early Buy program from Q4 2023 into the beginning of 2024, resulting in approximately $75 million of incremental sales in this year’s first quarter. Sales volumes also benefited from the restocking of channel inventories in preparation for the beginning of the decking and railing season. Gross margin was 45.4%, a 580 basis point expansion from 39.6% in the first quarter of 2023 and above expectations.

Increased capacity utilization along with related production efficiencies and the continued benefit of cost-out programs with the key drivers of this exceptional margin performance, which more than offset higher labor costs. I continue to be impressed by the discipline and the success the company has around continuous improvement programs. It is part of our DNA and is embraced at all levels within the organization. As Bryan noted, while we do not expect to replicate this margin level in subsequent quarters this year, it is a good indicator of our ability to drive substantial operating leverage. Selling, general and administrative expenses were $51 million or 13.5% of net sales in the first quarter compared to $37 million or 15.7% of net sales a year ago, representing considerable leverage as a percent of sales due to the strong sales performance in this year’s first quarter.

The year-over-year dollar increase is primarily due to accelerated branding and marketing spend, mainly related to new product launches and preparing for the busy season. We made the decision in 2023 to increase our branding spend back to historical levels. As we continue to invest at this level in 2024, we see evidence of it helping to drive the market to Trex products. Net income was $89 million in the first quarter or $0.82 per diluted share, more than double the $41 million, or $0.38 per diluted share reported last year. We delivered EBITDA of $133 million or 35.6% of net sales, compared to $69 million, or 28.8% of net sales in the year ago quarter, driven by increased sales volume and higher gross margins. Consistent with historical trends, first quarter cash flow from operations represented a use of cash primarily for working capital needs.

Cash used in operations was $174 million compared to cash used in operations of $115 million in 2023, primarily due to the shift in timing of the Early Buy program and subsequent increase in Q1 sales volume. We invested $38 million in capital expenditures, primarily related to the build out of the Arkansas manufacturing facility. As noted in today’s earnings release, our first quarter results support our expectations for substantial above market growth in 2024. We are pleased to reaffirm our full year guidance for this year. We expect net sales to range from $1.215 billion to $1.235 billion, representing year-on-year growth of 12% at the midpoint. EBITDA margin is expected to range from 30% to 30.5%. Full year SG&A expenses are expected to drive 20 to 30 basis points of leverage and we are assuming an effective tax rate of approximately 25% to 26%.

With our Early Buy program completed in Q1, we expect Q2 sales in the range of $380 million to $390 million. With that, I’ll now turn the call back to Bryan for his closing remarks.

Bryan Fairbanks: Thank you, Brenda. As I noted in our last conference call, I have a high level of confidence in the Trex consumer, in our brand, our products and product development capabilities, our channel partners and Trex’s growth potential. Our first quarter results have only strengthened that confidence. Trex is well positioned to continue to benefit from the strength of the outdoor living category, and new product introductions are further distinguishing us from a competitive standpoint. Our channel partners are best in the industry. Trex products are available at over 6,700 locations, far more than any other brand in our industry, and consumer recognition of the attributes of Trex decking and railing products continues to build. We are looking ahead for a year of strong growth for Trex in 2024 and to capturing a greater share of the much larger addressable market in the coming years. Operator, we’ll now open the call for questions.

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Q&A Session

Operator: We will now begin the question-and-answer session. [Operator Instructions] Your first question comes from Stanley Elliott with Stifel.

Stanley Elliott: Brian, Brenda, thank you guys for the question. Congratulations on the strong start to the year.

Bryan Fairbanks: Thanks.

Stanley Elliott: Bryan, could you help us with the expectations maybe for sell through embedded in the full year guide, and maybe what happens with inventories at the end of the year based upon that framework?

Bryan Fairbanks: Sure. Yes, we’re still embedded within our guide is a mid single digit increase in overall sales on a full year basis. And we expect inventories as we get to the end of the year to be similar to the level that we were at the end of last year. So we’ve built a plan which does put more inventory into the channel earlier than what we’ve done in the past couple of years. But if we take this back to pre-pandemic timeframe, this is getting back to a little bit more normalized way that the channel operates of making sure that inventories are peaking out at the end of the first quarter, and then as the season really kicks in, that inventory starts decreasing through Q2 and Q3.

Stanley Elliott: Nice to hear about the higher end luxury being up double digits, especially with so much around consumer trade down. What’s driving this strong market outgrowth and maybe kind of any feedback you’ve received thus far from the channel?

Bryan Fairbanks: Yes, we see it as an overall economic indicator that those higher end households, they’re not as heavily impacted by inflation with food, fuel and all of the other things that are hitting those families. It’s easier for them to be able to invest in their existing homes with lower mortgage rates along the way. And we just see that there is a bit of a difference between that higher end consumer and lower end consumer. And we’ve seen that results in our business at the entry level versus some of those higher end products. And that was one of the strategies as we launched Lineage and Signature. We understood as the economy had the potential for more difficult times, that high end consumer would be there in either marketplace. And we wanted to make sure that we had the right premium products to appeal to those consumers.

Stanley Elliott: Perfect. Thanks, everybody, and congratulations. Best luck.

Bryan Fairbanks: Thanks, Stanley.

Operator: Your next question comes from Tim Wjos with Baird.

Tim Wjos: Hi, everybody. Good afternoon. Nice job on the results.

Bryan Fairbanks: Thanks.

Tim Wjos: Maybe just to start on the gross margins, could you give us, I guess, a little bit of flavor, how you think those should sequence through the year? Just my back of the envelope math kind of suggests that maybe it does imply a little bit of year-over-year decline as the year progresses. So I just kind of want to make sure I kind of understand the pace of gross margin through the year.

Brenda Lovcik: So, yes, it’s typical that you would see us to have the higher gross margin both in the Q1 and Q2, that’s the first half of the year. And then in the back half, right, as we start to bring down utilization in the factories, you’ll start to see those gross margin declines in Q3 and Q4, but still expecting, again, nice improvement for the full year – from a full year perspective.

Tim Wjos: Okay. Okay. I mean, is my math right in that you’re probably somewhere in, like, the 41.5%, 42% range for kind of gross margins for the year to get to the EBITDA guide…

Brenda Lovcik: You’re within the range, yes.

Tim Wjos: Okay. Got you. And then secondly, just Bryan, during COVID I think some of the smaller players in the industry got some shelf space in wholesale due to just supply chain constraints. Where are you in kind of like regaining some of that share in terms of getting some of that shelf space back and I guess where are you in that kind of journey?

Bryan Fairbanks: We saw that start to turn around meaningfully last year, and we further saw that as we were out in the selling season during the fourth quarter and now selling into the 2024 year, that a lot of those accounts that were really forced to take in some excess product because their existing suppliers didn’t have enough capacity at the time. We’ve seen them turn back to the brands that they’ve trusted before, and we’ve seen all of those consumers come back to Trex again.

Tim Wjos: Okay. Okay, great. Good luck on the rest of the year. Thanks for the time.

Bryan Fairbanks: Thanks.

Operator: Our next question comes from Ryan Merkel with William Blair.

Ryan Merkel: Hi, everyone. Thanks for the question. Hey, Bryan, can you just tell us how you were thinking about guidance for the full year on revenue? I know it’s early in the season, and then maybe comment on April if that looked like the first quarter.

Bryan Fairbanks: Yes. So it is – your key comment there it is early in the season and we are encouraged with what we saw during the first quarter. We continue to be encouraged with what we saw in the month of April. We’ve talked to our contractors, we’ve talked to our dealers, and there is still that feeling that that consumer is out there. They’re looking to do those type of projects in the marketplace. But we also don’t want to get too far ahead of ourselves. We need to get well into the busiest part, really, the meat of the season in Q2, in Q3, to deliver that level of confidence that the consumer is going to be above that mid single digit type growth level. To Brenda’s comments of pulling some of that capacity back later in the year, if we see that number is higher, we’ll continue to run that capacity longer. So that results in higher revenue and also improvement in gross margin.

Ryan Merkel: Yep. Perfect. Makes sense. All right, my second question, you called out an expanded product portfolio as one of the drivers of the strong growth. Any callouts there by category that you want to frame for us?

Bryan Fairbanks: It’s really across all of the new products. We’ve not broken out specific revenue on those products, but the Lineage product with heat mitigation technology is doing extremely well in the marketplace. Our Signature product is a high end product, $9, $10 a linear foot. It is for that truly discerning buyer that’s looking for the look of real hardwood. But the ease of maintenance of a Trex composite decking board, we’re seeing that move into the channel nicely as well. We just went national on that. So inventories are being built and we are starting to see the sell-through pick up on that. T-Rail, we launched midway through last year. So we’re about a year into that now and again starting to see some really good takeaway with that product. And then, of course, we’ve got the new products coming in, in the second quarter and that’s going to be a continuing story with the company here of new products entering the market to drive our growth.

Ryan Merkel: Very good. Thanks.

Bryan Fairbanks: Thanks, Ryan.

Operator: Your next question comes from Rafe Jadrosich with Bank of America.

Rafe Jadrosich: Hi, good afternoon. Thanks for taking my question. Just the first quarter, obviously margin performance was really, really strong. If in your second half revenue sort of implies 5% declines year-over-year. If the second half revenue ends up staying kind of in line with where we’re tracking now and does come in better, how do we think about the second half incremental margins like would you start – would you see margins kind of tracking more in line with what we saw in the first quarter? Like what are the puts and takes to that second half margin guidance that wasn’t impacting the first quarter?

Brenda Lovcik: Yes, thank you for the question, Rafe. So if we break down Q1 gross margin, we highlighted the impact of our continuous improvement programs, production efficiencies as well as just utilization. And so if you break that apart, we did about a third, a third, a third from those areas. So you think about utilization that will definitely help us in the back half if we continue to see the strong pull through that we’re experiencing right now.

Rafe Jadrosich: Thank you, that’s helpful. And then just – as if we step back and look at the long-term guidance you have is for 12 – like the midpoints around 12% revenue growth. Your revenue growth guidance for this year is I think the midpoints around that, but you do have a 6% to 7% tailwind from the timing of Early Buy. Can you just talk about what gets you to the long-term guidance pace relative to the underlying trend this year?

Bryan Fairbanks: Yes. So I think we’re being conservative in where we see the consumer at this point. We do have those long-term expectations to deliver 12% type revenue growth on average through now 2028 timeframe. Doesn’t mean that every year we’ll deliver that number. There will be economic differences that come along. I expect some years will be higher than that and there’ll probably be some other years that are lower than that. But we still have great confidence in those targets that we just laid out last September.

Rafe Jadrosich: Thanks. Appreciate it.

Bryan Fairbanks: Thanks.

Operator: Your next question comes from Susan Maklari with Goldman Sachs.

Susan Maklari: Thank you. Good afternoon, everyone. My first question, Bryan, is you noted that you are seeing a positive mix shift just given that the higher end consumer is a bit more engaged in housing and taking on some of these larger projects. Can you talk about how that is flowing through to the results? Is there a lift that you’re getting in the margin? And if we do see that mix eventually does normalize with some of those lower end consumers coming back, what would that mean for the margins and some of the other metrics in the business?

Bryan Fairbanks: Now, recall when we launched our enhanced product line back in 2019, the strategy with that product line was to have an entry level product at two times, the price of wood, and then our step up product, enhanced naturals. Having that product there to bring the consumer in, show the consumer that they can afford a Trex composite and then move them up to that next level. And with those two products, it’s a very attractive margin when you mix out the volume between those products, it wasn’t about bring people in the door and let’s just go sell as much basics as possible. It was really about that upsell opportunity. So you saw the kind of margins that we delivered even when that entry level was quite a bit stronger.

And we are heading into the part of the season when we will see more sales coming through the DIY channel. That ends up being more of a summer time Q2, Q3. So we’ll seek some of that come back in more heavily in Q2. So I’m not concerned about the margin performance. This organization is highly focused on driving margins. And as we look at new products coming in, we’re making sure that we’ve got the appropriate margins with that and understanding that we’re going to have to meet the needs of all income levels so that we can deliver the kind of growth that we’re expecting as well as you’re expecting from us.

Susan Maklari: Yes. Okay, that makes sense. And then you mentioned that you were running at a fairly high utilization rate to start the year. Can you just perhaps quantify that for a bit? And as you do think about that sequential deceleration in that, where do you expect to get to? And is there any offset in there in the back half as you add some capacity perhaps?

Bryan Fairbanks: Yes, we haven’t quantified what our capacity utilization is. It’s fair to say that we are running extensively. And it’s important as an organization, given the size that we are today. We have to build that inventory and run that capacity earlier in the year. If we see that demand hit at a higher level during the busy season, we can’t turn on enough capacity to be able to make up the difference. So, that inventory has to be there. So, that’s why you see a higher capacity utilization. And I expect that will be consistent as we move forward. And then we start pulling that back as we enter into the latter part of the year. Now, as I mentioned before, the upside is that consumer remains stronger, we get into the heavy part of the season, that inventory in the channel comes down more quickly. And we keep running that capacity at a higher level.

Susan Maklari: Okay. All right. Thank you for the color. Good luck with everything.

Bryan Fairbanks: Thanks.

Operator: Your next question comes from Phil Ng with Jefferies.

Phil Ng: Hey guys, congrats on another strong quarter. So, Bryan, I mean, interest rates are obviously higher. And you kind of called out maybe the lower end of consumer is a little squishier. But if I’ve heard you correctly, just based on what your channel partners are seeing in your sell-out, it doesn’t sound like you’ve seen any slowdown. It’s been pretty steady and strong. So if I look at your full year sales guidance, what you’ve guided effectively, the first half, the back half implies 6% to 8% sales decline. Is that effectively just all inventory drawdown? And is that what your channel partners have signaled that they’re looking to do as well? Are you baking in some conservatism with a more choppy macro backdrop?

Bryan Fairbanks: Well, let me provide the definition of how we are using sell through. And that is point-of-sale at our pro channel locations, as well as our home center partners. It is just pure year-over-year, are they selling more, are they selling less? And we think that that’s going to be mid single digits. So, to your point, yes, there will be inventory drawdown. We need to get it out there early. When the season really turns on, those products will be there in the right mix to be able to service all of the needs of the channel. So that is what’s driving that. And we’ll see that inventory drive down as we move into Q2 and Q3.

Phil Ng: But has your channel partner signaled that they have a desire to kind of work down their inventory pretty hard? Because I think last year, you finished a year, like, at really historical lows, at least in channel.